Dave's three steps to wealth

Dave's three steps to wealth -- I am certainly not the first person to think that I have the secret to getting wealthy...in fact searching amazon for "three steps to wealth" will get you more books than you know what to do with.  (I've linked a few of the search results below) But I decided to write a blog post about it.  Why?  The idea came from a conversation that I was having with a coworker.  She was thinking about whether to buy a new house, and if so whether to sell her current one and move, or whether to rent her current house, and buy another one.  This got us to chatting about whether debt is good or bad, and how you build equity (and thus wealth) in real estate.  Anyway...what's the point of this.  It made me think about what one can do in just a few hours a week (or less) to create wealth.  So here's my crack at it. 

1) Track your net worth.  In his book, Good to Great, Jim Collins said that companies who made the jump from good to great followed a single, undiversified strategy, and happened to choose correctly.  They chose a single metric (eg Walgreen's optimizes revenue per square mile) and drove that metric relentlessly.  For individuals and families, the metric Net Worth is the correct metric.  This measures the wealth you've created after you have accounted for your expenses.  In  The Millionaire Next Door Danko and Stanley talk about net worth being much more important than income in the measurement of wealth.  If you doubt this, go read their book.  If not, keep reading.
For years, I tracked my net worth in quicken, and spent $39-$69/year upgrading to the latest mediocre software.  This year, I switched to tracking my net worth at http://mint.com.  Mint.com is a free service/site (which was just bought by intuit, because they were kicking quicken's ass) in which you enter your bank accounts, credit cards, any investment accounts, loans and real estate.  Mint then automatically keeps these up-to-date for you.  It checks your accounts on a daily basis, and interfaces with cyberhomes.com to update property values on a weekly basis. It allows you to see your net worth transparently, and watch it change over time.  This is an invaluable tool to track your success (or failure).  Many people find that even though they have a good job, they actually have a negative net worth between their mortgage, credit card debt, car loans, etc.  This is a sobering but important discovery.
So -- step 1, start tracking your net worth monthly.

2) Review and categorize your transactions -- Mint.com also will go to your bank account and download your transactions every day and categorize them.  You probably have to spend an hour or two making sure the categorizations are correct and training it to do better, but then it's pretty sophisticated about getting them right.  It doesn't do well with categorizing cash or checks, so if you're going to do this, you should set up auto-payments for as many things as possible and use a debit card (which will show the vendor on each transaction) for the rest.  Watch your transactions for a month and categorize them relentlessly.  At the end of the month, you will be able to look back and see how much of your money was spent on non-discretionary bills, and how much is on discretionary purchases like coffee or candy.  I found that I spend on average $60/month at the little snack store in the lobby of our building.  In October, it was $90.  One key to being able to know this is that I always use a debit card so it shows up as the same vendor for each transaction. 

3) Have a "cost out" meeting with yourself -- once you know how much you spend on different items for a month or two, identify places where you can get costs out of your life.  When my son was born, my wife stopped working and reduced our income significantly.  Her take home pay came to about $2,000/month.  I challenged myself to get rid of $2k of expenses.  The first thing I did was to get out of the $346/month lease payment on my fancy car, and start driving my (already paid for) Ford Ranger.  I refinanced my house (that's probably worthwhile to discuss in another post) and removed about $200-300 of cost from our monthly bills.  We then (unfortunately) stopped putting money (about $500) in savings.  We stopped going out to dinner as often ($120/month), and so on.  I'm not convinced that we got to $2,000, but we definitely reduced expenses by close to $1000.  It would have been better if all of this money could then have been invested, but it certainly helped stop the bleeding and got us closer to breakeven for the next few years. 

4) Other bonus tips that I should discuss in other posts -- set up auto-pay for all of your bills, load balance your utility bills (most gas and electric companies allow you to do this, so you don't end up with sticker shock during the winter months).  The goal should be that you can leave town for a month and your financial life will continue on, you won't have a bill collector at the door, and most importantly you will avoid late fees.